There is a strong instinct towards trust-based relationships in family businesses.  Governance based on trust allows management responsibilities to be allocated among family members – and the insiders who are treated as family – based on trusting each other’s talents.  They know each other well enough to understand their respective strengths and weaknesses and they trust each other to deliver.  As a result, hierarchical, top-down governance structures, with excessive monitoring and reporting are replaced by horizontal relationships, openness and a commitment to teamwork.

A trust based structure can contribute to speedy decision-making at management level in a family business.  In place of elaborate rules and control mechanisms, decision making is often marked by informality, such as a lack of board or other meetings, and a willingness to waive rules in exceptional circumstances, especially where the right result has been achieved.  When trust is high, people feel that they will be judged by results rather than by whether or not they have followed the prescribed procedure, and if necessary they expect to receive the benefit of any doubt.  This approach can help keep an entrepreneurial attitude to risk alive in the family business.

Family business owners who trust each other often feel a shared responsibility to protect the family silver and are willing to take a long-term view of their investment return, thereby giving the company the competitive advantage of cheap capital. A longer term commitment by owners to their business can be reciprocated in long-term service by employees who are confident about their job security.  This can lead to a pattern of long service that helps to build up know-how in the workplace and avoid the disruption and costs caused by high-levels of staff turnover.

Basing governance of a business on trust can also generate positive psychological returns.  It generates goodwill among a group of stakeholders, (owners, employees, family and even wider communities with an interest in the business) who feel confident that they can trust their colleagues to take the interests of each other into account.  This encourages and reinforces personal qualities like empathy, sympathy and an awareness of the value of the greater good as distinct from a focus on personal gain.

The trust dilemma

Having said all this it must also be acknowledged that trusting another person tends to feel inherently risky to some extent.  Therefore, if a family wants to inject trust into governance of their business, consciously and deliberately, they need to answer the key question, who do we trust?

Who do we trust?

Types X and Y mentioned below are different descriptions of a family’s basic attitude to trust.  It is very important to stress that one is not better than the other; they are just different.  Knowing which is the more accurate description of a family’s attitude makes it easier to build trust into governance in a way that “fits” with the family’s innate feelings about who they can trust.

Type X – We trust people we know or who are like us.

This attitude to trust naturally limits the scope of who can be trusted to direct family and, in the absence of a familial relationship, might include “trusted” advisers, close friends and members of the same cultural, ethnic or social group as the family.  In other words the family trusts people they know or who have something in common with them.  This approach to trust generates an inside/outsider mentality; insiders being those who can be trusted and outsiders being strangers who should not be admitted to positions of trust, unless they are very carefully vetted or can be controlled, and even then the family might still feel that there is a gap in trust that cannot quite be bridged.

This type of trust is usually slow to develop beyond immediate kith and kin because it is based largely on the personal experiences and social networks of family members.  Bad experiences involving breaches of trust tend to be treated as setbacks that make the family more wary.  An “outsider” who is deemed to have breached the trust placed in him or her, reminds the family of their view that “outsiders” should not be trusted in the first place.  Violations by “insiders” might be punished by rejection and the breakdown of relationships, so an “insider” becomes an “outsider” and the overall attitude to trust among the insiders is reinforced.

Type Y – Treat others as you would wish to be treated by them.

This view describes people who believe that if they adopt a trusting attitude, it will be reciprocated rather than abused.  Unlike Type X, it is not based primarily on personal experiences or relationships and is rather a belief or statement about of how people ought to behave.  As a result, the group that can be trusted is wider and the family is likely to find it easier to contract with outsiders without the same level of checking or controls that would be needed to convince Type X that an outsider can be trusted.  The intrinsic optimism in Type Y usually means that setbacks are absorbed without sacrificing the view that people are generally trustworthy and that this is the right way to live and conduct the affairs of the family and the business.

The effect on governance

In Type X, ownership will be tightly controlled.  It would feel right to the family that ownership be restricted to bloodline family members because of their innate concern about trusting ”outsiders”, like spouses or non-family, to understand the family’s values in relation to ownership.  This might even extend to the feeling that ownership should be restricted to working owners, because of concerns that direct family who do not work in the business might develop a different ownership agenda and are better not to be trusted with ownership.

Type Y ownership on the other hand, would be more open, with less concern about extending ownership to involve the wider family including non-working owners and spouses or partners.  Educating and informing owners about their rights, the expectation being that they can then be trusted to act responsibly, would help mitigate any feelings of this being risky.

The different attitudes to trust are likely to make it easier for Type Y to raise capital from outside equity investors and to use share based incentives to recruit and reward non-family employees, each of which are likely to be steps too far for Type X, who might view these as the “worst” type of “outsiders”.

In Type X, board and management positions will be dominated by family members and trusted insiders.  The logic of this approach might extend to the family seeking in each generation to invest in businesses that exploit the talent in their lineage, because they will then feel they can innately trust the insider who is running the business.  This will appeal as a better way of expanding the family’s wealth than taking the risk of recruiting outsiders to run businesses that are not a good match for the talent and ability of the current generation of the family.

In contrast, Type Y will readily engage talented outsiders to run their business.  While Type X will always feel more comfortable with a business that is family owned and family run, Type Y will one day move with ease to become a business that is family owned, but not family run.

It is equally important that the family’s attitude to trust is reflected in a policy on employing family members.  Type X should devise a policy that encourages family members to join and gives them every opportunity and advantage to do so, because ultimately the family will only be content if family members hold senior positions in the business.  Type Y on the other hand will favour a policy that promotes competence and ability over family relationships, and the policy will challenge family members to prove themselves worthy of the position.  In Type Y the policy may even state categorically that there will be no advantage in being a family member.

The different attitudes to trust will also affect governance of the family assembly.  Type X will instinctively see the assembly as an inner sanctum where the family can discuss issues that no-one else need know about.  If they define insiders as bloodline family members, it would not feel right to invite outsiders like spouses, non-family directors or advisers to attend the Assembly.  Type Y, in contrast, would be more likely to involve these other stakeholders in the family assembly and see their contribution as enriching the assembly’s role.

The different effects of Type X and Type Y on family business governance are summarised below and here it is worth reiterating some essential points:

Type X and Type Y are different.
One is not better than the other, although supporters of each view are likely to feel this because they are prone to compare the advantages of their view with the disadvantages of the other view.
In family business governance it is essential to go with the flow of a family’s innate values in relation to trust and families should resist any attempt to make them adopt practices that make them feel uncomfortable.  There is no “ought to” in family business governance; the task is to discover what each family wants and is capable of delivering.

Comparisons of Types X and Y in Governance

Type X

We trust people we know or who are like us

Type Y

Treat others as you wish to be treated by them

Share ownership restricted to ‘family insiders’. Spouses and non-working owners may be excluded. Ownership more open; could include spouses, managers, employees and outsider.
Board and management dominated by family and ‘insiders’. Ability and competence matters as much as ‘insider’ status.
Employment policy promotes interests of family who can be trusted. Employment policy challenges family members. Outsiders treated equally.
Family Assembly is inner sanctum restricted to bloodline. Family Assembly open to outsiders participating.

Knowing that there are different basic instincts in relation to trust gives families and advisers an insight into how they can strategically mobilise trust in the governance of a family business. There is a lot to be gained from injecting trust into governance, advantages that are beyond the reach of other businesses that denigrate the notion that trust is an effective way to build business relationships.

 

Further reading:  See The Moral Foundations of Trust by Eric M Uslaner, Cambridge University Press 2002

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